Maybe Fannie Mae's nightmare is over. Sort of.
According to independent and joint press releases from the Securities and Exchange
Commission (SEC) and the Office of Federal Housing Enterprise Oversight (OFHEO)
on May 22 the two agencies have reached agreement to settle long running investigations,
litigation, and general unpleasantness resulting from the alleged misstatement
of Fannie's financial statements dating back several years.
Fannie Mae is a massive corporation which provides mega-millions
of dollars to banks and mortgage companies each year which allows those entities
to fund mortgages to homebuyers and owners. The mortgages are then packaged
and sold to investors or turned into collateral to back securities sold on the
open market. Fannie also retains a significant number of mortgages in its own
portfolio, an additional bone of contention which has fueled the debate over
The cost of the settlement in pure dollars to Fannie Mae is a $400 million
. In the words of the OFHEO statement, "This level of penalty signals
that unsafe and unsound conditions cannot be tolerated at firms that have a
public mission and enjoy public benefits."
The cost in terms of the corporation's independence is likely to be a good
deal higher than the monetary penalties indicate. OFHEO's statement said that
it had directed Fannie Mae to undertake a comprehensive reform program "aimed
at top-to-bottom change, from corporate culture and tone to specific changes"
in accounting procedures, audit functions and other controls. Franklin Raines,
former CEO and CFO Timothy Howard who were both drummed out of the corporation
early in 2005 (both left with huge parachutes consisting of monthly pension
payments, lifetime medical and dental coverage for themselves and their dependents
and substantial life insurance benefits.) might be a little nervous about the
part of the statement where OFHEO directed Fannie Mae to "undertake a review
of current and separated employees for remedial actions." OFHEO also directed
that Fannie Mae limit the growth of its portfolio of mortgage assets to the
level it reached on December 31, 2005. Congress, the Treasury Department, and
the Federal Reserve under former chairman Alan Greenspan have also called for
a reduction in the portfolios and increased federal oversight
of both Fannie Mae and its sister corporation Freddie Mac which had its own
less serious accounting problems a bit earlier than Fannie Mae.
Fannie Mae agreed, without admitting or denying any of the counts against it,
to the entry of a final judgment that permanently permits it from violations
of the internal controls of the SEC.
The dates reported in the press releases were a surprise. Fannie had long admitted
to financial irregularities for the years 2001 through 2004, the latter being
the year when the discrepancies were first uncovered. Tuesday's statements
moved the marker back a full three years to 1998 when, according to Linda Chatman
Thomsen, the SEC Director of Enforcement "Fannie Mae's departure
from proper accounting practices allowed it to present to its shareholders and
the marketplace financial statements showing stable and predictable earnings."
Ms.Thomsen said that the "impression created by the Company's financial
statements was a false one. Transparency and accurate disclosure are the keys
to good corporate governance and should be the rule, not the exception."
The settlement, however, only requires the company to restate its financial
reports back to 2003 which is expected to result in an $11 billion reduction
in previously stated net income.
The SEC also stated quite baldly a charge that had been only alluded to in
the past; that "senior management manipulated the company's earnings
in order to obtain bonuses they otherwise would not have received. Senior management
of the company directed employees to record only $240 million of amortization
expenses. By not recording the full amount of the calculated expenses, Fannie
Mae understated its expenses and overstated its income by a pre-tax amount of
$199 million. The company's management made two additional adjustments
in the fourth quarter of 1998 that had the effect of offsetting nearly half
the $240 million amortizations expense adjustment." The result of this
was that Fannie's financial reports exceeded shareholder's expectations
but also hit the target profits necessary to trigger maximum bonuses to management.
This has resulted in a fraud injunction against the corporation.
Nothing has yet been heard from the Department of Justice which announced its
investigation of Fannie Mae in late 2004.